The Statement Of Financial Position and Its Importance in Accounting

accountantA statement of financial position is one of four business documents a public company must file every year in order to retain their status. The other three are an income statement, a statement of retained earnings, and a cash flow statement.

Most often statements of financial positions are called ‘balance sheets.’ However, when a company is a government or non-profit organization, the original term ‘statement of financial position’ is used. If you are going to be running any type of business it is important that you know how to create, monitor, and read this document. If this is something you need to do or want to learn more about, start by taking Udemy’s introduction to bookkeeping (accounting). It can give you a basic understanding of principles related to accounting. From there you can go on to take more advanced courses at Udemy that will help you manage your company’s growing financial needs.

Most often this statement is prepared and released as one of the last events for the specific accounting period. This means that all the transactions in the three sections listed above are given on a single document and posted to a general ledger. More simply, a statement of financial position is a single picture of a company’s entire financial position for a given period of time. Its goal is to summarize the changes in financial activity.

Balancing Assets, Equities, and Liabilities

The statement of financial position is a type of numerical report. What sets it apart from typical bookkeeping documents is that it specifically reports the balances in the company’s assets, liabilities, and equity accounts. ‘Equities’ is the term to describe what the company specifically owns outright. ‘Liabilities’ refers to the items (and their monetary equivalent) that the company owes, and ‘assets’ are the resources that the company has to work with during operation.

Generally, the statement of financial position follows what is known as the ‘accounting equation.’ This is written as assets = liabilities + equities. For the statement of financial position to be considered valid it must be balanced. This means that the company’s assets must equal the sum of its liabilities and equities. Showing whether the company is operating at a profit or a loss is not the focus of the statement. Rather, showing the balance – and that the equation holds up – is the main goal. In many instances aside from necessary reporting, analysts can use the statement of financial position to evaluate the overall health of a company.   If your company is growing and you understand bookkeeping basics you can move onto the first part Udemy’s CFA Level one Course. Once you have finished you can move onto the second part of the course.

Double Entry Bookkeeping 

Unlike more basic elements of bookkeeping, a statement of financial position is a more complicated document. It is not like an income statement, which is more mathematically straightforward, starting with revenues (earnings) and subtracting expenses to reach its net profit. This is the way an individual might keep their checkbook. But to make a correct statement of financial position it is necessary to understand double entry bookkeeping. At its most basic this is when any entry into the financial document creates at least two changes in the numerical accounts. A credit (or earning) in one account causes an offsetting debit (or expense) in another account. Often this method of double bookkeeping means adding a second algorithm to the mix. It is Debits = Credits.

Linguistically, a debit is not the same thing as a credit. But in finance, it depends on where the credit or debit is located on the statement of financial position. The statement of financial position can be considered two-sided. One side is assets and the other side is liabilities and equities. On the liabilities and equities side, if a value of a liability is increased it is called a credit. If it is decreased it is called a debit. On the assets side, increasing the value of an asset is called a debit and decreasing an asset value is called a credit. They are reverse oriented. Double bookkeeping was designed with the balance of the balance sheet in mind. If an asset increases or decreases, then appropriate oppositional financial maneuvers must be enacted in liabilities or equities to balance it out. This is a safeguard to protect against mismanagement or worse, fraud.

Expanded Reports 

The larger a company and the more accounts it possesses, the more detailed a statement of financial position needs to be. It is important that all information be reported on the balance sheet. In order to make it easier to read both the assets and liabilities and equities sides of the statement will have several major subcategories.

Asset Categories

Often, assets will be broken down into four major groups: current assets, long-term investments and funds, properties and equipment, and intangible assets.

Current assets are those that, theoretically, could be converted quickly into cash. The term for this is ‘short time,’ and is usually considered to be one year or less. Current assets include actual cash, short-term investments, accounts receivable, inventories, and prepaid expenses. Long-term investments and funds are the assets that cannot be converted as quickly as current assets. These include ownership over stocks and bonds and other investments that would take over a year to convert. In both instances these are considered ‘liquid assets.’

Property and equipment assets are the opposite. They are physical assets. These include buildings, factories, machines, vehicles, and large computer systems. The value and costs of these items are charged against income because the items depreciate in value over time. This means that each year that passes makes the item less valuable. Intangible assets are those that cannot be touched but are most definitely owned by the company and bring in a source of revenue. Examples here would be patents, copyrights, trademarks, and brand images.

Liabilities and Equity Categories 

The liabilities and equities categories can be broken down into four groups as well: current liabilities, long-term liabilities, contributed capital, and retained earnings. The best way to think of a liability is as an obligation or something the company must do or owes. They can include bills, debt payments or warranty obligations.

Current liabilities are those that can be met in the short term of less than one year. Long-term liabilities on the other hand are those obligations that are not due in the current fiscal year. They can include bank notes to be paid, bonds to be paid, or long term financial arrangements for purchase such as loans.

Contributed capital is one of the main sections under the equity heading. This is the number that shows what has been invested by stockholders through purchase of stock from the company itself. This money – or capital – has contributed to the company. Hence the name contributed capital. Usually contributed capital is split into stated capital which shows the average value of the stock and additional paid-in capital which shows the money paid above the average value. Retained earnings are an equity that is represented in income. This is the money that has remained after all dividends are paid off. A dividend is what is owed to shareholders when profit on stock is made. What remains belongs to the company and must be reported as an income type.

The statement of financial purpose is the main source for understanding a company’s financial life and can be used to analyze past, present, and current practice. It is necessary that any business accountant know how to create one. Figuring out some basic tips for helpful accounting is a good starting strategy when tackling something as complicated as creating a statement of financial position.

Running your business efficiently and continually means preparing strong financial records. This is incredibly important. Analysts, government agencies, and others will review this document. They will want to understand the numerical way in which your business works. They might also need to investigate the legality of your financial behavior. If you cannot produce a statement of financial position that is standardized and easy to follow it could easily open a can of worms for you or your business.

Lastly, working on documents like a financial statement of purpose you’re going to want to be working with the most up to date accounting software. Most businesses use Quickbooks for this type of financial work. If you are not familiar with the newest version of the Quickbooks software than you should take Udemy’s course on Quickbooks 2014. It will give you the most in-depth tutorial on how to use the accounting software to your advantage. It’s time to take control of your accounting so that your business stays strong and continues to grow.